This introductory chapter details the historical development of direct and indirect taxation in the UK with information about:
- Early taxes in Medieval Times
- Opposition to income tax from 1799
- Free trade in the 19th century
- Lloyd George and the People’s Budget of 1909
- Taxation during the 1st World War
- The cost of war – Rearmament and World War 2
- The UK Purchase Tax – a precursor to VAT
- Taxation in Post-war Britain
- Major changes in taxation over the past 50 years – changing taxation for married couples
- The role of tax credits in the UK and the changing role of National Insurance contributions
The records and facts about UK taxation
In chronological order, this factual – but informative – guide takes you through the development of indirect and direct taxation in the UK from its early beginnings when monarchs would impose import and export duties on certain goods to the sophisticated system of tax collection which is in existence nowadays. Would you believe that income tax wasn’t introduced until 1799 and what does the idiom ‘daylight robbery’ have to do with taxation? The answer might surprise you.
We have emphasised the reasons for the taxation to put it in an historical context and have concluded the chapter with an analysis of the most important changes in taxation over the past 50 years.
Why do we have taxes?
Taxes have existed since ancient times as a way for monarchs or rulers to raise revenue by placing levies on their citizens, their property and/or their land. What has changed are the way that the revenue raised is spent. In the past, money was needed to pay for the army, the navy, government bureaucracy, the monarch, royal court and palaces.
However, nowadays modern governments are also expected to fund healthcare, welfare, social services, schools, transport plus financial support for sport, industry, heritage and culture. A quick look at the past will show that changes in taxation are often made as a direct result of money being needed to pay for wars – and later for welfare.
Early taxes from Medieval Times
The earliest taxes in Britain were initiatives such as excise duties on the export of wool (1203) or on wines (1275) while the Poor Law tax in 1572 collected money from the local inhabitants of an area to pay for parish-based aid to the destitute. A land tax was imposed in 1692 and was set according to the rental values and sizes of both rural and urban land/property. This tax was paid by the prosperous: owners of business premises, tradesmen, shopkeepers and innkeepers and was 2-4 shillings for every pound. It was administered by unpaid local commissioners who were usually local men of modest means such as farmers.
Taxes have existed since ancient times as a way for monarchs or rulers to raise revenue by placing levies on their citizens, their property and/or their land.
Other taxes to come into effect during this period were the Coal Tax Acts of 1667-1670 and the Window Tax of 1696. Looking at the matter from the perspective of the 21st century, it seems strange that the first income tax wasn’t imposed until 1799. What is less surprising is that it was massively unpopular but was opposed less on economic grounds and more on ideological grounds. Why were British citizens so against income tax?
Opposition to income tax from 1799 onwards
Throughout the whole of the 18th and 19th centuries, income tax was seen as an unacceptable governmental intrusion into citizens’ private affairs and was even a threat to personal liberty. The Prime Minister who introduced it, William Pitt the Younger, was heavily influenced by the economist Adam Smith but also needed the extra revenue to fund the war against revolutionary France in the late 1700s. It was felt that it was every affluent citizen’s ‘patriotic duty’ to pay this tax to fund the Napoleonic Wars but it was also felt to be a temporary measure, which would be repealed as soon as the war had been won. In the 1799 Income Tax Bill, it was set at 1%-10% for those earning £60-£200 and a standard 10% for anyone earning over £200 a year.
Although this first income tax was abolished by Henry Addington in 1802, he reintroduced it the following year but referred to it as a ‘contribution of the profits arising from property, professions, trades and offices’. Although the maximum rate was set at 5%, it led to a 50% increase in revenue as more citizens were eligible to pay it. However, it was so unpopular that the House of Commons received 400 petitions denouncing it and in 1816, it was repealed.
Taxes have been around since ancient times to fund state bureaucracy, the monarchy and the armed forces.
Early taxes were land taxes, import and export duties, local taxes to fund poor relief and indirect taxes such as the Window Tax.
Income tax wasn’t introduced until 1799 and was universally unpopular as an intrusion into citizens’ personal affairs and liberty.
Taxing income was seen as a temporary measure to fund the Napoleonic Wars and was abolished in 1816.
Free trade in the 19th century
If the emphasis was on personal liberty in the 18th century, then the 19th century was a time when free trade was encouraged. As a result, the Prime Minister, Sir Robert Peel, removed custom duties on 750 articles out of a total of 1,200 but an empty Exchequer meant that he had to reintroduce income tax to raise revenue in 1842. This tax was 7d in the pound for those who earned over £150 per year. Although it was again considered to be a temporary measure, money was desperately needed to pay for the Crimean War (1853-1856) which meant its repeal was delayed.
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By 1874 this tax contributed £6 million to the government (compared to £47 million raised from Customs & Excise). Although both Disraeli and Gladstone both pledged to abolish it in their electioneering speeches, this was never done when they came to power. By 1905, there were 1 million inhabitants of the British Isles paying direct taxation in the form of income tax.
Lloyd George and the People’s Budget of 1909
The foundations of the Welfare State as we know it today were put in place by the Liberals’ People’s Budget of 1909. Having pledged to provide welfare measures such as old age pensions for workers, Lloyd George then had to find £7 million to make good on his promises. He proposed a super tax (or surtax) of 6d in the pound for those who earned over £5,000 and also increased death duties (which had originally been introduced in 1894). His proposed land taxes were rejected by the House of Lords and almost led to a constitutional crisis. Unlike previous taxation which was mainly seen as a way to raise governmental revenue, all of his measures were also intended to redistribute wealth to the less fortunate.
Taxation during the 1st World War
By 1914, there were 1.3 million taxpayers and income tax was set at an average of 6% although there were heavy tax duties on luxury goods such as sugar, tea, beer and tobacco. Obviously, revenue was needed to fund the 1st World War and during 1914-18, income tax was gradually increased to 30%. Despite this rise, the national debt ballooned from £623 million at the beginning of the war to £7,800 million by the end.
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How much power did the Crown have to raise taxes?
Until 1628 the Crown had much more power to impose taxes. One of the reasons for the English Civil War was a power struggle between the Crown and Parliament. A key Bill is the Petition of Right in this year which prohibited the Crown from imposing arbitrary taxation without the approval of Parliament.
What was the Window Tax?
Although the Window Tax was an indirect tax, it was intended to impose a tax relative to the prosperity of the taxpayer since the more windows you had, the bigger your house and by extension the larger your income. This tax was in 2 parts: a basic flat-rate house tax of 2 shillings and a variable tax rate according to the number of windows people’s property had. For 10-20 windows it was 4 shillings and for over 20 windows it was 8 shillings. Incidentally, this is where the expression ‘daylight robbery’ dates from; people would brick up their windows to reduce their tax bill and so were literally being deprived of light!
Which articles had custom duties imposed on them?
Indirect taxation like customs & excise would depend on the fashions of the time and articles would be added and dropped from the list from year to year. Luxury goods such as wine, silk, silver plate, coaches and hats would be taxed but even basic commodities like salt, candles, soap and starch would also have excise duties.
How much corruption was there with the collection of taxes?
It’s difficult to judge but probably not as much as some other European countries. In 1783 William Pitt the Younger vowed to root out revenue fraud and reduce administrative costs. He was extremely successful and by 1792, revenue had increased from £12.7 million to £18.6 million.
The cost of war – Rearmament and the Second World War
Starting from the mid-1920s, the British rearmament programme had cost £197 million by 1937. The following year, the standard rate of income tax was set at 5s,6d in the pound (27.5%) while the surtax was 41% for those earning over £50,000 per annum. In 1944 the beginning of the PAYE system meant that the collection of tax revenue could be done more efficiently and much more easily. By 1945 12 million people were paying income tax (compared to less than 1 in 5 working people in 1939).
Starting from the mid-1920s, the British rearmament programme had cost £197 million by 1937.
The emphasis on free trade in the 19th century meant that excise duties were cut on many commodities and so revenue was once again raised from direct taxation.
Lloyd George’s People’s Budget (with its welfare reforms) was funded by land taxes, higher death duties and a surtax for the wealthy.
In 1909, for the first time, taxation was seen as both a source of revenue and a way to redistribute wealth.
The 1st World War led to income tax being raised to 30% to pay for military expenditure while the surtax was set at 41% in 1938 to pay for Britain’s rearmament programme in the run-up to the 2nd World War.
The UK purchase tax – A precursor to VAT
Apart from loans, a lot of the money raised in Britain during the Second World War came from a purchase tax, which was levied at different rates according to the perceived luxury value of the goods. Unlike VAT, this tax was imposed at the manufacturing or distribution end rather than at retail outlets. It was originally a third (just over 33%) but in 1942 it was doubled to two thirds and in 1943 it reached 100%. This Purchase Tax (which dropped to 25% in peacetime) was in effect until 1973 when Britain joined the European Union. From April 1st 1973 it was abolished and replaced by VAT with a single rate of 10% with exemptions on some goods.
Taxation in Post-War Britain
During the 1950s and 1960s, income tax in the UK was at its highest levels reaching 90% at its highest rate. In 1965 a separate Corporation Tax was established for businesses.
When Margaret Thatcher came to power in 1979 the income tax top-rate was 83% whilst the basic rate was 33%. She personally felt that income taxes were too high and one of her first acts was to lower the top-rate to 60% and the basic rate to 30% believing that the state should receive more of its revenue from indirect taxation such as VAT and National Insurance.
Since her terms in power, successive governments have followed Thatcher’s lead by steady decreases in the rate of income tax so that the basic rate now stands at 20%. However, these decreases have been offset by corresponding increases in indirect taxation so that VAT is now 20%.
Major changes in UK taxation over the past 50 years
It would be a mistake to believe that the tax system in any country remains static; it ultimately reflects the standards and values of the society it aims to fund and serve and of necessity must be in a constant state of change to be fair. This is one of the reasons why the annual Budget is announced in Parliament and extensively analysed and criticised.
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There have been numerous changes over the past 50 years but let’s highlight some of the most important: taxation for married couples, the role of tax credits in the UK and the changing role of National Insurance contributions.
Changing taxation for married couples
Apart from the increasing weight given to indirect taxation over the past 50 years, there have been a number of other changes. In the 1960s there used to be a Married Man’s Allowance (only payable to men) while the 1970 Income & Corporation Taxes Act could say quite seriously “a woman’s income chargeable to tax shall…be deemed to be her husband’s income and not her income.”
Successive tax legislation has recognised the need for equal treatment of men and women for tax purposes. From the separate independent taxation of married couples and the Married Couple’s Allowance (1990-2000), nowadays the transfer of 10% of unused (tax-free) Personal Allowance can be made from one partner to the other irrespective of gender.
The role of tax credits in the UK
Another change in the way income tax is calculated is that it has moved away from providing financial support for marriage and towards providing support for children. This is a result of declining numbers of people marrying and state recognition of civil partnerships. Both types of tax credit in the UK (Working Tax Credits & Child Tax Credits), which started in 1997, are given according to a family’s circumstances rather than the marital status of the parents.
Before the advent of VAT in 1973, there used to be a Purchase Tax which was imposed on manufacturers or distributors rather than on retailers.
Since 1979, income tax has gradually fallen whilst indirect taxation such as VAT and National Insurance has steadily risen.
Changes in the ways taxes are imposed reflect changes in the society they are collected to serve.
Over the past 50 years there have been major changes in the way married women are taxed to reflect increasing equality in society itself and more support is given for children in the household.
The changing role of national insurance contributions
If you were to ask older members of society about what National Insurance is, they would deny that it was a tax at all. Originally a weekly lump sum to pay for social security benefits, the link between the contributions made and benefit entitlement has been gradually eroded since the 1960s. Nowadays National Insurance contributions are more closely aligned economically with the thresholds for payments of income tax so it’s a matter of historical accident that it’s treated as a separate tax at all.
When was the Married Couple’s Allowance abolished?
It was abolished in 2000 although initially retained for couples born before April 1935.
How much tax is paid by the rich compared to the poor?
Although obviously the rich make a greater contribution to taxes in the UK, the poor give a greater proportion of their income in tax (43% according to the Equality Trust).
What taxes are the most recent in the UK?
Some taxes have developed recently because of changes in people’s behaviour. Let’s take an example. The increasing use of online gaming sites (and the resulting loss of tax revenue) meant a change in betting and gambling duties (2014). Duties now have to be paid depending on the ‘point of consumption’ i.e. the location of the gambler rather than the operator.
Why do we have so many taxes in the UK?
Apart from their purpose to raise revenue, taxes are also intended to change people’s behaviour. For example, the Climate Change Levy to reduce CO2 emissions or higher excise duties on cigarettes to encourage people to give up smoking. The irony from the government’s point of view is that the more successful they are in changing people’s behaviour, the less revenue they raise.
How many people in the UK receive tax credits?
According to the IFS, up to April 2016, 4.4 million families containing 7.4 million children received Working Tax Credit or Child Tax Credit.